Global Market Cap to GNI/GDP Ratios for 28 Countries

The table below lists the total market cap to GNI (GDP) ratios of the largest economies in the world. Comparing the current market cap-to-GNI ratio (also known as Buffett Indicator) of a country to its historical average can be used to estimate the current valuation and expected returns of a nation’s stock market. Gross National Income (GNI) is used instead of GDP due to its closer relationship with stock market returns. The table also shows the historical correlation between the ratio and the subsequent 3-year stock market returns. Negative correlation means that a lower-than-average ratio is correlated with higher-than-average equity returns.

For the latest data, check the Global Valuations Database by Siblis Research.

Undervalued & Overvalued Stock Markets in 2016

Based on the cap-to-GNI ratios, currently the cheapest markets in the world are the stock exchanges of Greece, Chile, Brazil, Spain and Russia. Greece never really recovered from the financial crisis but entered directly to the centre of the European debt crisis. Athena’s stock exchange dropped to record-low levels in summer 2012. Share prices doubled during the next two years but started to plunge again in March 2014 and are now in the same level as in June 2012.

Greece’s economic outlook stays gloomy and the country is not expected to escape its crisis any time soon. But based on the cap-to-GNI ratio, investors are undervaluing the country’s shares and this represent quite an opportunity for risk-hungry investors. The same holds true for Brazil. The largest economy of Latin America has entered recession and the current government is in the middle of multiple corruption scandals. Brazilian share prices have decreased sharply during the past one year but the investors might be overreacting and prices can be expected to bounce back sooner or later.

The most expensive markets can be found from Japan, South-Korea, Thailand, South Africa and Switzerland. The valuations of most of the Asian stock markets were extremely high at the end of 2015. The price levels started to decrease at the end of the year when the Shanghai stock bubble started to burst but the Asian markets are still looking expensive.

Also the US and pan-European public companies are overvalued based on the market capitalization ratio. In the table, the corresponding GNI for the total market capitalizations of Euronext is the combined GNI of France, Portugal, Belgium and Netherlands. Among the largest economies in the world, only UK is currently valued lower than its historical average.

The total value of domestic stock market and county’s economic output

The total market cap (TMC) to GNP ratio, commonly known as Buffett Indicator, was popularized by Warren Buffett when he described it as the single best measure for the overall stock market valuation level at a given time. In the article published in the Fortune magazine, Mr. Buffett was only talking about the US economy but the same ratio can be applied successfully to almost every other nation in the world.

The ratio is calculated by dividing the total value of a country’s domestic public companies by the nation’s Gross National Product (or GNI).

The ratio can’t be used to directly compare the valuation levels of different nations. Some countries are characterized by a higher portion of publicly listed corporations when some have a larger portion of private or state-owned companies. The current TMC-to-GDP of a country’s stock market needs to be compared to the historical average value of the nation.

TMC-to-GNI and stock market returns

The table above lists the correlations between a country’s monthly TMC-to-GNI ratios for the past 20 years and the corresponding 3-year forward stock market returns. 3-year forward return means the return on investment generated during the following three years starting from the day the investment is done. The returns are based on the most followed stock index of a country’s exchange. The correlations suggest strong negative relationship between the ratio and stock market returns for almost all of the countries: when the cap-to-GNI is higher than historical averages, the stock returns are going to be lower. This would suggest that TMC-to-GNI ratio is a powerful indicator of market valuations even though it offers no insights for short-term market movements.

However, a word of caution is in order. The correlation calculations include the period of the 2008 financial crisis when both the stock returns and GNI of practically all of the nations in the world were plummeting and the after-crisis period of fast recovery of both economic activity and share prices. If these periods are excluded, the correlations are slightly weaker but still more than significant. It is highly recommended for every investors to pay close attention to the cap-to-GNI ratios.

Shortcomings of the Buffett Indicator

Dr. Ed Yardeni has pointed out some possible shortcomings of using the ratio to estimate the current market valuations. One potential problem is that Buffett Indicator does not take account structural changes in profit margins caused by e.g. changing tax rates, lower interest rates or technological innovations. Especially technological advances have often been expected to lift corporate profits to a entirely new level but the evidence for this has remained mixed. As Dr. Yardeni states, there is no perfect indicator and stock valuation is always somewhat subjective. The best option is to follow multiple metrics and make your own conclusions about them.

Gross Domestic Product, Gross National Product & Gross National Income

The most common practice is to use GDP when calculating the cap-to-economy ratio but using Gross National Income (GNI) gives more accurate results. GDP takes only account the domestic economic activity inside a country. GNI also includes interest & dividend payments and profits from assets received outside of the boarders of a country.

GNI = GDP + Net Income from Abroad

In majority of the cases, the difference between GDP and GNI is quite minor. In 2014, the GNI of US was $17,813 billion and GNP was $17,419. This means that the outflow and inflow of income are balanced. The same is true for majority of the nations but there are exceptions. One notable case is Ireland that used generous tax policies to lure many multinational corporations to set up their headquarters to the country. The GNI of Ireland is 20% lower than its GDP.

Gross National Product (GNP) and GNI are quite similar concept and there are only small differences in the way they are calculated. The main difference is that GNI takes account income and taxes earned also by citizens permanently living abroad while GNP only measures the earnings of domestic citizens. The GNI has largely replaced the use of GNP since the World Bank begin calculating and publishing GNI figures instead of GNP.

Other indicators for stock market valuation

There exists also other popular methods for estimating market valuations. Tobin’s Q compares the market value of the company to its book value. For United States, Z.1 Flow of Funds Report published by Federal Reserve System is usually used as a source data. The average value for the ratio between 1980 and 2015 is 0.85. On January 2016, Tobin’s Q was 0.95 , slightly lower than one year before. Q-ratio would also suggest that US stock market is currently overvalued.

Maybe the most followed metric especially for US stock market is Shiller PE, also know as CAPE ratio. In March 2016, CAPE ratio for S&P 500 index was 25.93 which is considerably higher than the average ratio of 16.65. Shiller PE can also be used to estimate the valuations of different sectors.